There is a viable method to finance carbon emissions discount

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The writer is the chief economist at German bank LBBW and co-chair of an Independent Expert Group on debt, nature and climate

Last year was yet again a record with respect to global temperatures. No matter what the occupant of the White House thinks, the world is stumbling into a climate crisis. While China and OECD countries are still the main greenhouse gas (GHG) emitters, the global south is catching up quickly. Sub-Saharan Africa and south Asia account for close to 60 per cent of emissions by OECD countries and, on current trends, will surpass 100 per cent in the early 2040s. If emerging countries continue on the path of carbon intensive growth, the battle for the world’s climate will be lost.

It would, however, be naive to expect them alone to be able to meaningfully mitigate the impending environmental disaster. Many developing countries are cash-strapped, and a growing number are at high risk of debt distress. The rich world will need to support them to curtail emissions.

Unfortunately, budgets are tight in the global north as well. Official development assistance (ODA) is on the retreat not only in the US, but across Europe.

Yet, waiting is not an option. GHGs can linger in the atmosphere for many decades, even centuries. What matters more than any “net zero” date is the long-term stock of GHGs in the atmosphere. A ton of CO₂ emitted today will contribute more to global heating than a ton emitted in 2040. Aggressively frontloading emissions reduction is of the essence.

A coalition of the willing should form a Finance Facility against Climate Change (F2C2) to mobilise private funds through the capital market. It would follow the successful example of the International Finance Facility for Immunisation (IFFIm). The receipts from F2C2 bond issuance would be dedicated to investments that help to reduce the carbon footprint of beneficiary countries. The funds would be on-lent at highly concessionary terms to those that will use those resources in support of development strategies in co-operation with official lenders. Alternatively the funds could lend without mark-up to private contractors in such fields as renewable energy, making mitigation investments more bankable.

This is a tried and tested blueprint. In effect, the bonds are backed by rich nations’ commitments of future disbursements to cover debt service obligations of the F2C2 bonds. This allows for the necessary frontloading of climate spending in developing countries, while eliminating the short-term impact on donor countries’ budgets — the burden is extended over many decades. If F2C2 were to raise $1tn and repayment is stretched over fifty years, the annual cost to donor countries would only be 10 per cent of the amount of ODA granted in 2023. If F2C2 operates with less than 100 per cent grants, as is highly likely, the burden would be even less.

This is affordable, and it goes a long way to contribute to the $1.3tn that developing countries need annually to combat climate change. It would also be economically efficient, as emissions mitigation is often cheaper in poorer countries than in rich ones, where most low-hanging fruits of emissions reduction have been reaped.

The rating agencies would treat the commitments to support F2C2 on a par with the full faith and credit of the sovereign nation making that promise. As a result, F2C2 bonds will carry ratings in the AA or even AAA range. The exact rating will depend on the size and composition of the countries’ commitments for future funding. We know how rating agencies will analyse F2C2, as they have rated securities issued by IFFIm in this way and, on a much larger scale, also assigned AAA ratings to European NextGenerationEU bonds. We can expect F2C2 issuance to be snapped up by investors eager to fill their books with truly green and highly rated financial instruments.

It is true that F2C2 will push the financial burden of fighting climate change to future generations of rich country taxpayers. Some may consider this fair. Developed countries have, since the onset of the Industrial Revolution, emitted the lion’s share of GHGs that are still floating around in the atmosphere.

But whatever our sense of intergenerational fairness may be, there are few good alternatives. Time is running out and we need to use all practical solutions. We cannot afford to wait until public finances miraculously improve in rich and poor countries alike. Confronting climate change has become a make-or-break priority requiring decisive and early collective action. F2C2 provides a framework that brings us closer towards securing a viable future.